Overcoming The Capacity Constraints Of Small Business

The most venerable 2 x 2 strategy tool is the Product-Market matrix. Conceived in 1965 by Igor Ansoff it defines four archetypal growth strategies, ones that define the broad categories of options available to firms. It looks like this, and asks the question: “Should you expand by focusing on new markets or new products?”

  • (Starting in the upper left) Product development: Developing spinoff products that appeal to your existing customer base.
  • Market penetration: Selling more of what you offer to existing customers.
  • Market development: Selling more of what you currently produce to new customer groups.
  • The fourth strategy, diversification, is essentially different from the others, in that it requires a firm to create new products and appeal to new customers simultaneously. Specialized strategies for diversification include internally developing products for new markets, buying another company to enter new markets, distributing another company’s products, licensing new technologies, and allying with other companies to go to market.

The matrix is a great universal tool that always provokes fruitful discussion when it’s employed. But I think it has [at least] one drawback. In particular, because it was designed for a 1960s conglomerate, ITT, it is biased toward large companies with diverse product offerings and deep pockets.

What About Small Business?
In the entire world there are less than a thousand private firms with 50,000 employees, but tens of millions with fewer than 50 employees. These firms tend to have narrow product offerings and not very deep pockets. For them access to financial and human capital, and production capacity, is limited, sometimes severely so. Large firms with sound fundamentals can line up money for growth under most economic conditions. But when lenders talk to small firms, they frequently ask owners for personal guarantees, and keep them on a short leash. Even when money is not the main issue smaller firms typically lack the necessary skills and support staffs to place multiple bets on new opportunities. And, they lack information and knowledge assets that are crucial to growing the company. In short, they lack the financial and intellectual capital that large competitors may enjoy. As a result, when they invest in growth, their survival may be at stake. Small firms do not have the luxury of taking a portfolio approach, absorbing failures in order to find a few hit products. The question of how and where to invest is much tougher to make in this situation, as the downside risk seems greater.

Examining Constraints As Well As Opportunities
These thoughts about the product/market matrix came to mind while talking with Jim Carlson, a facilitator for The Alternative Board (TAB for short). It’s an outstanding organization that brings together groups of small business CEOs who meet monthly work on their core business issues. The CEOs function as an “alternative board” for each other. Jim, a former Hewlett-Packard marketing executive, now works with TAB boards full time, helping firms in fields ranging from retail to law, construction trades to software.

One day he said to me, “After working a few years with TAB companies I see they all have one of two problems. Either they have product capacity and need to figure out how to sell more, or they have sales capacity and need more product development and delivery capability.”

“Eureka,” I thought, “This is a new spin on an old idea.” This is similar to the Product-Market matrix, but viewed in a new way. The original focuses on the best direction for future growth, but this one looks at growth barriers, the capacity constraints small firms face.

So we discussed how to think about this new way of looking at the challenges of small business growth. Jim identified the two dimensions of the dilemma:

Sales and Channel Capacity: The sales aspect defines a firms ability to market and sell to customers. The channel aspect identifies market demand. Does a firm have the ability to market and sell more? And, is there demand waiting to be filled by its new sales initiatives?

Product Capacity: A firm’s product capacity is defined by its ability to produce and deliver. If sales expanded, could the firm produce enough to meet demand?

Consider Some Examples
1. Imagine you are a small family winery—in California there are more than a thousand of them, and competition is intense. You have good products and do a good business in your local area restaurants. And, there are select wholesalers across the country that stock your product. However, sales and product constraints are in delicate balance.
There is an old saying in the wine business though that goes “If the wife runs the tasting room and the husband is the winemaker, you can make money.” Meaning that while the winery is small, it may be able to sell out a limited production. But if it adds the overhead of professional staff and tries to grow, finances become challenging. In an industry characterized by a few very large firms and many very small ones, growth invokes all the constraints of money, people, and knowledge. Can the company maintain quality while increasing output? Can it afford to ramp up production since it will increase inventory and material costs, both in growing and bottling. Do the owners have the talent to break into new markets repeatedly, or innovate in existing ones to fuel sales?

2. A small cabinet manufacturer operates with 20 employees in a metropolitan area. Up to now the business has been supplying building contractors, architects, and designers with cabinets for high-end home and office products. The company’s founder has purchased good machinery over the years and calculates that he could double or triple his output if he had the demand.

He’s faced with the Sales and Channel Capacity problem. There is a clear need to invest in marketing and sales? But where is the capital to hire new salespeople? What kind of marketing support will they need? And, if the firm decides to invest can it stick to its current geography, selling more cabinets to existing customers? Or will they expand by perhaps selling to new customers in cities 30, 40, or 50 miles away? What impact does that have on current delivery and service costs?

3. A civil engineering firm provides structural engineering reports, environmental reports, and other services to cities and private firms in architecture and construction. The company has a small staff of highly specialized experts. And, it has the ability to sell to more clients but is challenged by the ability to produce the work. Given the cyclical nature of private construction they may not want to take on additional staff in good times. The President is sure the company needs more product capacity, but not sure of the best approach to providing that? Should she add lines that current staff can sell to existing customers? What are the financial, managerial, and other risks of taking on more staff?

We can plot businesses, and even product lines, on the graph based on the degree to which they are more constrained by sales or by production capacity.

  • Upper Left: The Salesman. This firm finds it could sell more if it could produce or acquire more product at the right price. It has established good selling programs and relationships that lead to a more or less steady flow of orders.
  • Lower Left: The Startup. Firms that are constrained in both production and sales may be actual startups, or they may be longtime small businesses that have developed neither channel or product capacity depth over time. For some small businesses this is the owner’s lifestyle choice. More sales, or more product capacity, might lead to more work and growth the owner would really prefer not to take on. But for all others, there is a need to develop both sales and capacity scenarios and strategies.
  • Lower Right: The Producer. Firms that are production constrained are challenged to consider a wide array of options. Yes, they have product capacity, but before cranking up the output they need to align it with new sales and channel capacity goals and initiatives. They must ask the key questions of the product-market matrix. Do they want to sell more of existing product to new customers? Or line extensions to existing customers? And, if the capacity exists they could also wrap more services around their existing products, potentially making each current customer more valuable.
  • Upper Right: The Star. This firm has some overhead in both channel capacity and production capacity. It has great growth prospects. Smaller firms in this position are still challenged, sometimes precipitously so. The key questions here are what are the internal competencies and management skills that will support growth along both capacity dimensions. Are the founders up to managing this process? Growth is often a proxy for capital needs in the business, but it is also a proxy for management and leadership development needs.

Obviously, firms that are strongly constrained on either the product or channel dimension need to create strategies that harmonize those capacities at a higher level of revenue and profit.

Small Company Thought Exercise
Step 1. Examine the Product/Market Matrix: Define how your company might grow in terms of Market Penetration, Market Development, and Product Development.

Step 2. Now examine the Capabilities Matrix: Which constraints do you face for each of the Product/Market Matrix strategies you chose in Step 1?

If you face sales constraints answer these questions:

  1. Have you developed the processes and tools needed to boost sales? Do you make sales a number one priority in our daily activities?
  2. Is your current market capable of buying more from you? Or do you also need to diversify offerings and the customers you target, thereby supporting the creation of more channel capacity?

If you face constraints of product and capacity answer these questions and then list the implications of each answer:

  1. Can you produce more of your existing product or service or can you expand your offerings by reselling what others produce?
  2. What products are complimentary to your existing offerings?
  3. Do you have a strategy to differentiate as you grow capacity? Can you keep costs in line?
  4. What is the latency of your product supply? For example, if you sell digital downloads you can add more capacity in seconds. But if you sell wine, your inventory pipeline might take three years to fill.
  5. If you sell some of your products through others can your distribution channel ramp up for an increased flow of product?

Five Not So Easy Pieces: A Users’ Guide to Sharing the Commons

In a 1968 Science article, ecologist Garrett Hardin proposed the Tragedy of the Commons as an explanation for why otherwise reasonable and self-interested parties would destroy shared resources they each depended upon. In the absence of rules and consequences that dissuade others from “over-grazing” the metaphorical commons, each player has little choice but to do the same. Short-term interests, fear, and greed undermine the parallel imperative to invest in a healthy and viable future. Inevitably, win-win scenarios become win-lose and then lose-lose as the grass or oxygen or ozone or peace we all need disappears.

The Commons metaphor turns on the core dilemma – self-interest versus the greater good. Do I pursue my goals without concern for the well-being of the larger community, or should shared needs always take precedence over those of individuals? Showdowns are happening in every corridor and at vastly different levels of scale. Globally it’s around access to land, clean water, peace, wealth…you name it. Nationally we see the same dynamic affecting central issues like provision of health care and utilization of transportation infrastructures. Systems are pushed beyond their capacity, and the response of too many self-interested stakeholders is to take more, not less – to add to health care costs, to contribute their small bit to worsening gridlock and pollution.

Tragedy Of The Commons

Figure 1  © Transcend Strategy Group 2012

Population growth, urbanization and technological advances are making us more interdependent than ever before, increasing the frequency and costs of these conflicts.  How do we encourage people and nations to “raise their game”, to think about long-term consequences and shared interests?

It is time to crack the code on enlightened self-interest.

The debate about how to do this usually takes the form of whether to impose rules and sanctions or to trust self-organizing forces to maintain a sustainable equilibrium; government enforced intervention versus the freely operating forces of communities and markets reaching balance through self-regulation. Experience teaches that it is rare that one or the other of these approaches is sufficient, so the question becomes, what will help to mediate conflicting interests in situations like these?

Ultimately, we need to sever the illusory conflict between individual interests and those of the community. Increasingly, they go hand-in-hand: two sides of a complex whole. The faster people realize this, the less damage that’s done and the sooner good planning and repair work can begin. What breaks the logjam and allows people to transcend their either-or…win-lose …position is caring that is both thoughtful and compassionate. Reaching the point of informed caring happens in many ways, often quite naturally. Unfortunately, we are also very capable of resisting and avoiding this realization.

Here are five suggestions for how to encourage parties to break the bind of The Tragedy of the Commons:

1. Identification – when we objectify the other as separate from us, our family, tribe, whatever…it’s easier to not care about their fates. Constructively reframing this may take some creativity; each situation is unique. We need to care about the well-being of others and feel their losses as real and important. The NIMBY syndrome (not in my backyard) and the depersonalization of enemies allows bad things to occur without triggering the outrage and opposition we might expect. It’s not us versus them; it’s all of us together.

2. Transparency – seeing reality, having access to facts, #s, etc.. in real time allows us to know what is going on and to trust what we know. My old partners Don Tapscott and David Ticoll wrote in their book, The Naked Corporation, “If you’re going to be naked, you better get buff”. In an increasingly transparent world, there’s nowhere to hide your improprieties, and the chances of getting caught are much higher. This makes us more accountable, and in a positive sense, it influences us to pay a little more attention to our decisions and actions. Transparency breaks the game-theory standoff that escalates self-interested action taken in self-defense, just in case the other guy isn’t playing by the rules.

3. Understanding – people need to understand what is at stake and the ramifications of pursuing their self-interest. We can choose to alter our actions if we see the logic and benefits of one course of action over another. Decision-making in situations like urban development and the construction of pipelines can be counter-intuitive, and benefit from careful analysis and consultation. For example, population density (up to a point) turns out to be environmentally positive, reducing the need for cars and increasing the return on a shared public infrastructure.

4. Confidence – there needs to be a viable and acceptable option, and a path for getting there. Even if imperfect, we usually require more than “trust us” to change hard held positions, especially when there is fear and uncertainty. Leadership counts; being concrete and explicit is important. The next few steps need to be named. Without that, tribes will wage war against neighbors and overuse of scarce and non-renewable resources will continue unabated.

5. Accountability – we do some questionable things when we believe no one notices or cares, from online lurking to hand-washing in public washrooms (apparently much less frequent when alone than when someone else is there). Build a public, sharing aspect into the process, so others witness the decisions and actions taken by individual players. This can be tricky, as we are seeing with international agreements for peace and preservation of the environment. It is working a little better in the financial management of countries, witness positive pressures being applied to countries in the troubled European Community. Accountability is key, but it only works when it is enforceable and where the first four conditions are met.


While not easy, the five pieces provide a practical template to follow where Tragedy of the Commons conditions exist. There are many success stories to draw upon, and more waiting to happen.

The Best 2 x 2 Matrix Of All Time?

“What’s your favorite 2 x 2?” is a question we receive frequently. But it is by no means the only one. Readers also want to know such things as:

Why not use 3 x 3’s ? The answer is that they aren’t as helpful as 2 x 2’s for our purposes. As Stephen Covey told us, “Important questions always get reduced to two options.” A matrix with more cells may be useful for mapping the territory or analyzing decision criteria, but is too broad for crystallizing core issues.

What’s your method for analyzing dilemmas? Is there a taxonomy? The answer to that is yes, but it’s lengthy. When we wrote the book The Power of the 2 x 2 Matrix we analyzed nearly 300 2 x 2 models, looking for underlying archetypes and patterns. We’ll explore some of that methodology in a future article.

But “what’s your favorite” is still the champ. And, not surprisingly, we have a favorite, sort of. It’s the Product/Market matrix, a 45-year old workhorse that Igor Ansoff sprang on the world in 1965.

This tool is so effective because it cuts very closely to what we call the archetypal strategy dilemma—the value proposition. As we say in the book, “The visible strategic act of corporate leaders is making choices that advance the goals of the firm in the best possible way.” In the diagram, the archetypal dilemma is between Context and Value. Context is the way you go about the business—the who, where, when, and why. Value is what you produce—the what. How these issues are framed is the job of a leader.

Ansoff’s matrix is a product of the 1960s, when conglomerates were in fashion. Companies such as ITT, Litton, and TRW, owned businesses in a variety of industries. Sticking to the knitting, in Tom Peters memorable phrase, was not yet in vogue among the Fortune 500. Ansoff’s experience with diversification helped him propose a simple taxonomy of strategies. (Later strategic taxonomies, such as those of the BCG Grid, and Michael’s Porter classification of forces and strategies, are equally insightful and useful, and explore dimensions of strategy that Ansoff overlooks, including market share, financing needs and strategic advantage in the supply chain. But it is the simple utility of Ansoff’s matrix with its focus on offerings and customers that make it valuable.)

The matrix explores two key dimensions:
Product: Businesses are defined by their product and services. Modifying them is a key strategic decision.
Market: Companies are know equally by their current customers and the markets in which they are known for competing. Choosing to enter a new market is a fundamental strategic issue.

Upper left: Product Development. The reputation of a brand enables it to sell new products to existing customers. Dannon, for example, grabbed acres of shelf space in grocery stores by continually pushing out new extensions to its yogurt line (fruit on bottom, no-fat, probiotics, etc).

Lower left: Market Penetration: Selling more of the same product to existing customers. A classic orange juice campaign proclaimed “It’s not just for breakfast anymore.” The effort to get existing customers to consume larger quantities, or consume more frequently, is the essence of market penetration.

Lower right: Market development. Selling more of your current product or service is ideal when the offering is well developed and some markets are underserved. Exporting is a common market development strategy. Apple provided a great example when it expanded its iTunes software to Windows, opening its products to a much larger customer base.

Upper right: Diversification. Sometimes mordantly referred to as “the suicide quadrant” by consultants, diversification is the most costly and risky strategy. Going after new customers with a new product means that a firm must establish new relationships and simultaneously perfect a new offering, taxing its skills and resources. Ideally, firms diversify gradually into areas that are somewhat complementary. It would make more sense for a company that makes earthmovers to get into farm implements than it would to open a chain of restaurants.

In the real world firms often combine Product/Market strategies. Dell started with PCs, then expanded into monitors and other equipment (product development). At the same time, the company also began hiring consulting engineers to service top corporate accounts (market development).

Using The Matrix
The ideal time to use the matrix is at the start of a planning cycle. It offers the advantage of being a great brainstorming tool that can easily be used by any team or group of employees. It quickly spurs conversation and engagement. The matrix prioritizes the four basic investment options. Try the method below.

1. Diagnose Define the product/service area for analysis. If you have multiple products or departments, define them separately.

2. Envision Ask the following questions for each of the quadrants, beginning in the lower left. Should our offering stay the same of should it change? Should we focus on current customers or new ones?

3. Discuss Ask questions such as “How would we change the product? What else would our customers like to buy from us? What customer groups are we not reaching today? Assess the attractiveness of the options that arise from the discussion. In most instances, the option that is easiest to obtain is the right priority.

4. Design Build a clear plan of action.

The Unreal Nature of Real-time

The term “real-time” burst onto the techno-business stage in the early 90’s, full of promise; one of those irresistible ways to improve performance made possible by the networking of computing machines.

The basic idea was hard to argue with—systems of all kinds work better with current, accurate information—i.e. feedback. As you improve on the two ideals of faster speed and error-elimination, organizations become leaner, more adaptive and ultimately fitter.

Any process or service could be magically improved by simply placing these two hyphenated words in front of the thing you were selling or defending: real-time computing, decision-making, supply-chain operations, energy management, you name it. We checked Amazon for books searchable using the term “real-time”, and they list more than 174,000. Discount half of these as misfits and you’re still facing an overwhelming number of applications of the concept to everything (literally) from strategy to parenting to rendering animation.

After a decade and a half of tuning, tightening and retrofitting our world to be more real-time, we’re learning that as with all highly leveraged interventions, there are often nasty unintended consequences to deal with. The very methods and tools we use to achieve our ends turn around and start shaping us in surprising and often limiting ways (think of Orwell, mood-altering drugs, Shelley’s Frankenstein and greedy King Midas). Three looming impacts of the real-time revolution we’re most concerned about are the loss of redundancies, erosion of personal time and space, and diminished learning capacity.

1. Loss Of Redundancies
Redundancy gets a bad rap. It’s considered extra, unnecessary and duplicative. It’s what you get rid of. But in systems terms, redundancies are a necessary source of flexibility, ensuring there is back-up capacity should vital parts become compromised or fail. Nature is full of redundancies, starting with the outpouring of sperm that never make it to their procreative destination. Imagine if we could streamline that operation and only release the one sperm cell that is needed—efficient, but at what cost to diversification and evolution? How many friends is enough—two, six, one? On the traditional, low-tech farm, workers have always developed overlapping competencies, building in back-up support along the way. Should someone become injured or ill, others could carry on. The related concept of multi-skilling became popular in the mid-1900s as part of high-performance and socio-technical-systems work designs for the same reason. Gains were considerable, not radical, but they were sustainable. We saw this first-hand in our work at Shell Canada in the early 1990s, realizing performance improvements up to 50 percent in plants that deployed self-managing teams.

The drift to real-time performance systems challenges the need for redundancy by removing uncertainty and replacing it with information. If we knew exactly what we needed at each moment, we wouldn’t have to maintain any slack. Redundancy costs money. Eliminate extra inventory, space, advertising and people, and you’re a winner. Enter the lean, hyper-efficient 21st Century outsourcing business organization model. A great short-term competitor, but a lousy long-term bet. A lot of the hollowing out of US industry over the past quarter century can be attributed to this kind of thinking. Reduce inventory and risk being caught out when faced with unanticipated surges, as has happened literally in the case of power outages. Businesses are similarly bottlenecked when they under-stock needed items, and their customers are inconvenienced when their dependence on a single supplier leaves them with no alternatives. A recent google-search collapse is a case in point; with the majority of web searches moving on their networks, this leaves no viable options when there is a breakdown. Cut space through hoteling, telework and other virtualization methods and you risk killing corporate culture and identity – who is left to care about the organization? Narrowcast your advertising and risk capping important new growth, not to mention eliminating serendipitous learning and new partnering opportunities; and let all non-essential staff go and you’re now dependent on less committed temps and often faceless suppliers to respond to emergencies and opportunities. A fully-tapped out workforce has no time for anything beyond their core assignment, eroding essential processes like socialization, error detection and prevention outside of the scope of primary responsibilities, opportunity-seeking and learning.

The net effect of all of this over-pruning and specialization is the loss of agility and resourcefulness. As market needs shift and the competitive field gets bumpy, narrowly focused supply chains can’t easily switch over to new tasks.

2. Erosion Of Personal Time And Space
We start our classes and lectures these days with the request that people turn off their phones and PDAs (personal digital assistants). We know this is a futile effort, but at least it slows down the amount and length of interruptions to come.

PDA’s are real-time devices, provisioning information to the user immediately. If it stopped there, we’d be grateful and celebrate, but of course it doesn’t. For the device trains us faster than we teach ourselves to use it, and we quickly become addicted to every beck, call and vibration of the damnable machine. We become endlessly curious—who or what is trying to contact me? We have to know. Maybe it’s important; maybe it’s urgent! No accident that people often call the RIM Blackberry the “crackberry” referring to it’s addictive properties.

Not so long ago, when you left the office or your place of work, you were on your own time. PDA’s are changing this. The new expectation is that email and text messages are accessed 24/7 and will be responded to within hours or even minutes. The reasoning goes something like, “if he knows about something important (or just current) now, and could address it immediately, then he should do it”. There is no place anymore to hide. You’re never off the grid, out of reach.

The crazy thing about this, is that we participate in this hijacking willingly, even enthusiastically. Real-time communications, gaming and a slew of information-based services accessed through PDA-like devices (entertainment, search, location-based, and so forth) are compelling and unfathomably distracting, turning us into A-D-D-like multi-taskers increasingly incapable of simply being in the moment.

3. Diminished Learning Capacity
Before paper, we had a limited capacity to store and access knowledge. The printing press invented in 1440 went a long way to preserving and sharing information beyond what was in the heads of local wise folks. Powerful as these innovations undoubtedly were, they were static, linear and asynchronous. To benefit from them the user still had to do a lot of basic thinking and problem solving.

Enter real-time information access and smart systems and watch out. Can’t remember a fact, find a street or who wrote To Kill a Mockingbird? Don’t fret. In fact, don’t even try to remember; just google it and presto, problem solved. How this may affect learning and memory is as yet an unanswered question. Our brains work efficiently using the most direct routes, where there is the least amount of resistance and effort required. The new skill we are learning is how to use search engines and smart devices, quite possibly in place of critical thinking and the establishment of important neural connections that lock in memories.

A second learning implication of real-time is the elimination or automatic correction of errors by smart devices. They are popping up everywhere: driving a car, spelling and grammar, vocal pitch adjustment and more. The trouble is, so much of how we learn comes as a result of making mistakes, feeling the pain, frustration or even disapproval that results, and making necessary corrections—i.e. learning. Lose that direct contact with the results of our effort, and nothing is learned until the artificial support is absent and we fail big time.

And one more learning casualty of real-time may be moral development in young children. Research at the University of Southern California’s Brain and Creativity institute suggests that constant exposure to fast paced, constantly adjusting images involving pain and violence conditions children to accept others’ pain without feeling concern or compassion. There is simply not enough time for the brain to process complex emotional responses. This is particularly true regarding forms of social or psychological pain and suffering, where it takes between six and eight seconds for our brain to respond. When these kids later witness similar acts in the real world, they may be desensitized and slow to respond with compassion. According to Manuel Castells, perhaps the most prominent sociologist writing about networked society, “Lasting compassion in relationship to psychological suffering requires a level of persistent, emotional attention.”

Progress is always a double-edged sword, and the closer we fly to this particular sun, the more over-heated and vulnerable our wings become (excuse the crass mixing of metaphors). Real-time face-recognition security systems and integrated health records management are two related examples of constructive change and improvement. Perpetual personal availability through PDAs is just plain destructive and spiraling out of control. We humans are no better suited to real-time-all-the-time than we are to flying around with make-shift wings. Make a list of the three things you value most, cherished life moments or memories, and we’ll wager they seriously lack in real-time qualities. Real-time is a convenient means to an end, not a way of being. Real life takes time, often lots of it, to sense, share experiences, learn through trial and error, to cry and to laugh. This is true for organizations and societies as well as for individuals, especially children. Now that we’ve figured out how to deploy real-time, it’s time to learn how to set healthy limits and when it is important not to use it.

Repost: Apple’s Trojan Horse Is Working Well

In 2005 we published a piece, “Apple’s Trojan Horse Is Working Well” which detailed how the tried-and-true Ansoff Matrix (products/markets) is useful in illuminating the phenomenal interaction of product and market development strategies Apple pulled off with its iTunes software, iTunes store, and iPod hardware. The piece was popular with readers then, so we’ve brought it back. We’ll update it, with a look at the iPhone phenomenon, in a future article. Here’s the original piece….

Apple stock continues to perform well, spurred on by sales of its iPod music, and now video, player. The music player market is hot and likely to remain so until 2007, which means Apple has plenty of good quarters ahead. Even better for the company, in the past year analysts such as Steve Milunovich of Merrill Lynch have stated that sales of the iPod are going to drive increases in computer sales, as new customers become accustomed to the Apple brand for the first time. As was predicted several years ago the iPod has become a , introducing Windows users who previously would not consider a Mac to the Apple user experience.


The Product/ Market Matrix provides a useful tool for thinking about this evolution. Published by Igor Ansoff in 1965, it is still incredibly useful for focusing one’s thinking about growth. Ansoff worked at ITT in an era of large conglomerates. His work helped firms rationalize their investments, and logically consider the risks and rewards of growth options.

For most of the 1990s Apple was stuck in the personal computing world. Rather than adding customers and products, it shrank in market share and abandoned some markets (handhelds, printers). It was plainly stuck way down in the lower left quadrant, with little in the way of great growth prospects until the new iMacs, released in 1998, spurred interest among existing customers. The message of the market was clear. Making Macs better was not the problem. The market needed something more compelling than a computer that was slightly better than a Windows PC to convince new customers to give the company money.

The iPod was the perfect rabbit to pull out of the hat. Apple’s core audience is multimedia-oriented, so a Mac-ish musicplayer was a step in the right direction. It also helps that Apple is well-known for charismatic product design; the public is a little more willing to give an Apple innovation a try. When early models got rave reviews, even Windows users who were deep into downloading wanted one. Once the iTunes software was released on Windows the iPod zoomed. In Ansoff terms, a successful Product Development strategy that succeeded immediately had positioned Apple for a Market Development strategy. Suddenly Apple was not just developing new revenues (upper left), they were also growing a new customer base (lower left).

Then came the coup de grace. The iTunes online music service was a diversification strategy which took Apple out of its traditional business model—cool, elegant, user-friendly hardware—into a retail services entertainment business. Everything about the business, from frequency of customer contact to how profits are taken, is different.

This diversification benefits Apple in two ways. First, it provides an opening into media distribution that may be a future path for the firm. It’s clear to many observers that personal computers will not be the only centerpiece of tomorrow’s digital entertainment universe. Providing an assortment of electronics gear and content gateways may be preferable. Second, it sets up a virtuous cycle. The more people who use iTunes, the more these new customers are likely to try an IPod or even a Macintosh product.

As Apple puts iPods into millions of new hands each quarter, it is creating iTunes users and developing potential customers for Macintoshes, and new products yet to come such as future video iPods and newer iPod phones. Think of Apple’s groups of users as interpenetrating communities—Mac users, iPod users, iTunes users and so forth. Each improvement to hardware, to the iTunes software and the music store, is leading to enhancements in the user experience for all of those groups. Apple has unique strengths that have enabled it to succeed with this multi-level strategy which all started with a great product (the iPod) and an a